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Definitions and Basics

Saving means different things to different people. To some it means putting money in the bank. To others it means buying stocks or contributing to a pension plan. But to economists, saving means only one thing—consuming less in the present in order to consume more in the future.

An easy way to understand the economist's view of saving—and its importance for economic growth—is to consider an economy in which there is a single commodity, say, corn. The amount of corn on hand at any point in time can either be consumed (literally gobbled up) or saved. Any corn that is saved is immediately planted (invested), yielding more corn in the future. Hence, saving adds to the stock of corn in the ground, or in economic jargon, the stock of capital. The greater the stock of capital, the greater the amount of future corn, which can, in turn, either be consumed or saved....

Although in general parlance investment may connote many types of economic activity, economists normally use the term to describe the purchase of durable goods by households, businesses, and governments. Private (nongovernmental) investment is commonly divided into three broad categories: residential investment, which accounts for about a quarter of all private investment (25.7 percent in 1990); nonresidential, or business, fixed investment, which accounts for most of the remainder; and inventory investment, which is small but volatile. Indeed, inventory investment is often negative (it was in 1990, and in three years during the eighties). Business fixed investment, in turn, is composed of equipment and nonresidential structures. Equipment now makes up over three-quarters of business investment....

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A Little History: Primary Sources and References

Franco Modigliani, an American born in Italy, won the 1985 Nobel Prize for two contributions. The first was "his analysis of the behavior of household savers." In the early fifties Modigliani, trying to improve on Keynes's consumption function, introduced his "life cycle" model of consumption. The basic idea was common sense, but no less powerful for that reason. Most people, he claimed, want to have a fairly stable level of consumption. If their income is low this year, for example, but expected to be high next year, they do not want to live like paupers this year and princes next. So in high-income years, Modigliani argued, people save. They spend more than their income (dissave) in low-income years. Because income begins low for young adults just starting out, then increases in the middle years, and declines on retirement, said Modigliani, young people borrow to spend more than their income, middle-aged people save a lot, and old people run down their savings....

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The cuneiform inscription in the Liberty Fund logo is the earliest-known written appearance of the word "freedom" (amagi), or "liberty." It is taken from a clay document written about 2300 B.C. in the Sumerian city-state of Lagash.